Looking on the bright side of the past 12 turbulent months, it has become easier for investors to draw a distinction between good, bad and lucky managers.

The downside, the loss arising from the credit crunch, is still being estimated. Figures published last week by UK actuary Lane Clark & Peacock, showed that FTSE 100 companies’ pension schemes’ surplus of £12bn last July had turned into a deficit of £41bn one year later, amounting to about 10% of their combined liabilities.

UK pension schemes suffered because they were caught in falling equity markets reducing assets while rising inflation and lower bond yields increased liabilities. But other investors are also facing losses.

Few equity managers have made money for their clients. The Caps pooled UK pension scheme performance tables, published by BNY Mellon Asset Servicing, showed that only 18 of the 399 funds investing in equities – excluding emerging markets and the Pacific basin excluding Japan – made returns above zero in the 12 months to the end of June. That is less than one fund in 20.
Funds delivering positive returns were sponsored by seven managers – Newton, Neptune, Liontrust, Baillie Gifford, GLG, Resolution and Sarasin.

The silver lining on this cloud is the opportunity it has given investors to distinguish between managers that have skill and those relying on luck. Markets as difficult as these can flush out managers who had an unexpected bias in their portfolios, or who had many bets that were variations on the same theme.

Granted, the market has not been totally chaotic, which would be the greatest test of manager skill. Many managers have been able to rely on momentum to make money, by taking an overweight or long position in energy stocks while staying underweight or short on financials. Moreover, the waters are being muddied by factors such as investor redemptions, which have nothing to do with fundamental investment reasons based on companies and the economy.

Nevertheless, investment consultants are convinced this is a period that will help them tell the good managers from the lucky. Many of the consultants have spent time during the past five years making theoretical tests of managers’ portfolios, entering the details into a computer and seeing if they would perform under unusual and difficult scenarios. Now they can watch real portfolios performing during a period of style reversal.

They can look at the decisions fund managers are making in the light of volatile conditions, and talk to the managers about those decisions soon after they have been made.
Watching how a manager behaves at a time like this is crucial to assessing its ability. Does it stick to its investment approach, however broadly defined? Is it still investing with conviction? Or is it prone to panic?

The best managers are those who can hold on to ideas when the market is going to extremes, without becoming stubborn. This is a rare opportunity to see whether managers are able to think under fire.

• Old enough to know better

Consultants expect experience to count for a lot. They say it can help a manager to have been through a period of pressure from bosses and clients previously, so they know the importance of sticking to their guns. Bosses and clients are also more likely to stick with a veteran than a callow youth when problems arise.

Experience can enrich a manager’s judgment, fine-tuning his or her sense for the likelihood of different outcomes and what to do if the bets turn out wrong. But there is a danger of managers overestimating the value of their experience. They may be misled by a sense that everything will get better much sooner than it actually does.

Some managers, such as Robert Hagstrom, who manages a growth fund at US manager Legg Mason, are already saying we are on the road to recovery.

This is consistent with the experience of the past 20 years, which have seen a succession of V-shaped recoveries after downturns, most notably in 1987, 1990, 1994, 1998 and 2002, but it contradicts earlier economic history.

Howard Marks, chairman of US manager Oaktree Capital Management, said that in the 1970s the bad news never seemed to end. There was a 37% decline in the S&P 500, large losses in the “nifty-fifty” growth stocks, an Arab oil embargo in 1973, inflation in the high teens and short-term interest rates in the 20s. New York stockbrokers were driving cabs and Business Week ran a cover story under the headline “The death of equities”.

Marks wrote to investors last month: “I can tell you no one was talking about a V in the 1970s. We experienced financial malaise lasting almost a decade. The best we felt we could hope for was a saucer-shaped recovery, a far different story.”

In those days, conditions were so difficult that asset management companies stopped hiring. Most of the asset managers with first-hand experience of the 1970s had to have secured their first positions by 1969. Assuming they were at least 21 then, they would now be 60 or older.

You do not see a lot of sexagenarians in asset management these days. While good managers usually take a keen interest in market history, an intellectual grasp of troubled times is less useful than remembering what it was like to go through it, personally, day after day, for years.